Friday 22 January 2010 10.00 EST
First published on Friday 22 January 2010 10.00 EST

For someone who has just had been honoured by the president, having had the latest bank-busting reform named after him, Paul Adolph Volcker looks as sad as Droopy Dog. Maybe he's still long of the banks, maybe he's concerned that his long-respected name has been attached to a policy potentially damaging to the US economy, the banks and the presidency, or maybe it's just his face.

The biggest story of the Volcker rule is the idea that banks should no longer be allowed to engage in prop trading. Conceptually, the idea that banks should cease to perform the riskiest (and most profitable) parts of their business is perfectly sound. Practically, however, you have the following caveats. For most UK banks prop trading is a minuscule part of their business, for many their prop trading teams were close down years ago, so no damage done there. For the biggest prop trading banks such as Morgan Stanley and everyone's favourite vampire squid Goldman Sachs, they had only recently attained bank status to be eligible for treasury funds, so losing the bank status could potentially harm their credit rating and cost them but probably many times less than their prop teams make. The other banks will surely just splinter off into a multitude of sub companies and funds and endeavour to wriggle out in typically snake-like fashion.

Say the above is not the case and the banks stopped proprietary trading, the effect on the markets would be instantaneous. The liquidity would drop and volatility would increase, the fallout of a sudden change in the number of trades in any given time period. The long standing and high-capital interaction banks have had with international markets has been the biggest contributor to the evolution of the exchanges and the systems that trade them.

I can't argue with much of the other parts of the Volcker rule, such as having a higher capital-to-risk ratio, but I fear that the total enactment of these policies might lead to the transfer of these activities to less regulated parties at the risk of us all. I do argue with the lack of any policy designed to correct the inequality between lack of funds available for lending to business and the sky-high compensation packages for staff.

The damage the policy announcement alone has caused is enough to make investors queasy. The DJIA lost 2%, its worst performance since October last year. Uncertainty is often echoed by trepidation in the markets but it feels like it is the unknown quantity of these policies, rather than the policies themselves that are causing investors to feel the worst might not yet be over for the banks. Yesterday, not long before this announcement, the ceiling on political campaign donations by corporates was removed by the supreme court. I expect Republican campaign chests to be overflowing with prop trading gold for the foreseeable future.